With the ever changing economic climate and particularly the dramatic slowdown in the property market, banks have had to become more flexible in relation to the repayment of facilities provided to borrowers. This has created a new type of relationship between bank and borrower. As bank and borrower become more intimate, banks may be drawn into a situation where their involvement in the management of a company could unwittingly expose them to the company’s liabilities.

In certain circumstances, borrowers who have found themselves unable to continue their business have simply abdicated responsibility for a company’s affairs leaving the bank with no option but to appoint a receiver. However, there are circumstances where the directors of a struggling company facilitate a role for the bank in the strategic direction of the company in an attempt to secure continued funding. In some cases this may lead to banks advising directors on a regular basis in relation to the management of the company. If this development is allowed to continue unchecked, it may have serious implications for the banks going forward.

The ramifications for the bank arise out of a long established principle that accountability for the management of a company is not confined to those persons formally appointed as directors. Other persons who have a role in the management of a company’s affairs have been found to be de facto directors or shadow directors and therefore held to be as accountable as the formally appointed directors.

A shadow director is distinguished from a de facto director on the basis that a de facto director is one who purports to act as a director but who is not validly appointed. Whereas a shadow director by contrast does not claim to act as a director and indeed claims not to be a director at all but, “...lurks in the shadows, sheltering behind others who he claims are the only directors of the company to the exclusion of himself”

Some of the consequences of a finding against a shadow director are as follows:

·         A company may not guarantee the obligations of a shadow director, or enter a loan, quasi loan or credit transaction with or in favour of a shadow director

·         Transactions that are vulnerable to attack under insolvency principles between a company and insiders, including directors, also become liable to attack when between the company and a shadow director, for example, transactions at under value, fraudulent preferences and floating charges.

·         The time period during which a floating charge will be vulnerable if granted to a bank which is a shadow director of a company is extended to 2 years

·         A shadow director may be the subject of a restriction or disqualification order

·         Crucially, a shadow director may in certain instances be liable for reckless trading and thereby become liable for the debts of a company. This is surely the issue causing most concern to bankers in the current environment.

Although a corporate body may not be a director of an Irish registered company, it appears that a bank or at least a banker could be considered a shadow director. Firstly, liability arises out of the company’s directors acting in accordance with the instructions of a bank. It is unlikely that compliance with one isolated instruction would suffice. However, adherence to a number of instructions such that the cumulative effect was held to be an abdication of responsibility by the directors as to the management of the company in favour of a bank could lead to the unwanted promotion of the bank from lender to shadow director.

Whether the bank is found to have acted recklessly and exposed itself to the full liability of the company is obviously a subjective issue. However, if a bank is found to have acted as a shadow director of an insolvent company, with such vested interests, it may encounter significant difficulty in demonstrating that it acted responsibly. The most advisable course of action for banks to avoid the spectre of shadow directorship is to obtain independent professional advice and to rely on it

in dealings with borrowers.

Mark Woodcock

Partner

e: mwoodcock@

mcdowellpurcell.ie

t: 01 8280 658